Increasing MSME access to climate finance...This report on increasing MSME access to climate finance...

September 2015 Increasing MSME access to climate finance

This publication was funded by The Climate and Development Knowledge Network (www.cdkn.org)

An adequate response to the growing threat of climate change in developing countries requires more action from the private sector and from micro, small and medium enterprises (MSMEs) in particular.

Current measures responding to climate change are insufficient, and climate finance flows are less than half of what is required to mitigate, and adapt to, the effects of climate change. As the private sector is the main energy user and greenhouse gas producer, and will undoubtedly also require greater climate resilience to protect its business interests, it must take a greater role in climate action. MSMEs account for 90% of private businesses in developing countries and, therefore, even small changes to their operations have significant potential for impact.

This report provides an overview of potential design options for the Green Climate Fund’s (GCF) MSME program. The Green Climate Fund (GCF) has recognised the importance of engaging MSMEs and has approved the creation of a specific MSME Program within its Private Sector Facility to increase MSME involvement in climate action. The GCF’s MSME Program is currently in the design phase, and it is likely that before the end of 2015 the GCF Board will discuss

(and potentially approve) a pilot version of the program. The report looks at three main design elements of an MSME program - barriers and solutions, investment focus and delivery options. It aims to guide the discussions around the MSME strategy while proposing specific objectives for the pilot program.

MSMEs tend to have limited access to climate finance due to weak policies, limited knowledge and awareness, or financial and economic barriers. Weak policies and financial infrastructure, as well as political instability, can limit the attractiveness of investing in MSMEs. A lack of awareness or knowledge of existing opportunities can be to blame for low uptake. Finally, financial products can be poorly suited to MSME investments, possibly because funding is difficult for intermediaries and MSMEs to access, or there are high costs and high risks associated with MSME lending.

1 | Executive Summary

EXECUTIVE SUMMARY 2

EXECUTIVE SUMMARY 3

The GCF’s MSME program could help to overcome these barriers by supporting interventions that address each of these barriers. The GCF MSME Program could support the development of policies that can encourage and enable the flow of climate finance to MSMEs at the individual or business level or at national and international levels. This could include the development of clear and stable climate change strategies, pro-MSME and pro-green investment policies, green incentives for MSMEs, and the reduction of counterproductive fossil-fuel subsidies. In addition, the MSME Program could focus on improving knowledge and awareness by providing technical assistance programs or through matchmaking platforms that link investors with investees. The program could also support the provision of tailored financial products that facilitate MSME lending, such as risk-sharing instruments, or financial products designed for specific growth stages of MSMEs, such as seed, venture, or working capital.

Given the large number of informal MSMEs, it will be important to provide solutions that support the informal sector. The majority of MSMEs in developing countries, almost 300 million, are in the informal sector. Providers will find it difficult to increase access to climate finance for informal MSMEs using traditional financial products, particularly those requiring property as collateral or extensive credit histories. The MSME Program could therefore look for ways to support solutions for informal businesses, such as the use of alternative credit worthiness assessments or collateral sources.

To deliver solutions most efficiently, the MSME Program should channel finance through intermediaries, and could specifically target investment aggregators as an entry point to the MSME market. The small ticket size and large volume of MSMEs mean the transaction costs associated with working directly with MSMEs are likely to be prohibitively high. It is therefore likely that the most cost-effective approach for the GCF MSME Program is to work through financial intermediaries. Several options exist as to which types of intermediaries: the MSME Program

could work through multilateral development banks to provide standardised products to micro-enterprises at scale, or, through local financial intermediaries to deliver highly specialised financial products in response to specific issues, or, through specialist foundations or funds to support startup businesses in early-stage roll-out of new technologies or innovative models.

The MSME program should prioritise investments for MSMEs at a country level. There are more than 350 million MSMEs in developing countries. At a global level, analysis suggests that there would be significant need for greening finance in the trade, agriculture, and manufacturing sectors. In addition, it is likely that the wastewater, small hydro, and water technology sectors will see large MSME participation. However, these needs vary by country, so priority setting and decision-making would require country-based analysis on the issues within each sector.

The MSME Program should use its piloting period to test approaches to tackle the challenges mentioned above while maximising learning before scale-up. The overarching objective of the pilot phase should be to test and refine the MSME Program’s approach in preparation for full-scale implementation. To achieve this, the pilot program should test new approaches to solving issues and maximise learning (via strong M&E processes) to ensure that efficiency gains can be found early on before the program scales up. This means that the MSME Pilot Program should identify investments that can maximise MSME reach while reaching informal MSMEs (such as roll-out of alternative credit worthiness testing). The pilot program would also be a good opportunity to undertake more detailed sector analyses at country level to uncover specific investment opportunities.

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ContentsEVALUATING THE RESOURCE MOBILISATION STRATEGIES AND SUSTAINABILITY OF NATIONAL CLIMATE CHANGE FUNDS.

1 Executive Summary 2

2 Introduction 5

2.1 Report rationale 6

2.2 Methodology 7

3 Climate Finance Landscape 8

3.1 ClimatefinanceFlows 9

3.2 Roleoftheprivatesector 9

3.3 Role of the GCF 11

4 Barriers and Solutions 13

4.1 Overview 14

4.2 Improving the policy and Green Funds Scheme (GFS), Netherlands enabling environment 17

4.3 Reducingknowledgegapsand increasingawareness 21

4.4 Role of the private sector 25

4.4.1 Targetedfinancialproducts 26

4.4.2 Reducing the cost and risk of lending to MSMEs 26

4.4.3 Improving the accessibility of funds for MSMEs 30

4.4.4 ProvidingtailoredMSMEfinancing products 32

5 Investment Prioritisation 35

5.1 Introduction 36

5.2 Categorizingclimatefinance 36

5.3 Sector prioritisation for greening finance 37

5.4 Sector prioritisation for climate technologyMSMEs 39

6 Delivery Channels 41

6.1 Overview 42

6.2 Delivery channel options and case studies 43

7 Implications 47

7.2 Overview 48

8 Annex 52

8.1 Expertinterviews 53

8.2 Definitionsofsectors 54

8.2 Overviewofinvestment prioritisation model 54

An adequate response to the growing threat of climate change in developing countries requires more action from the private sector and from micro, small and medium enterprises (MSMEs) in particular

INTRODUCTION 5

2 Introduction

Text HereAnadequateresponsetothegrowingthreat of climate change in developing countries requires more action from all stakeholders but, in particular, a greater role for the private sector.

INTRODUCTION 6

2.1 Report rationale

An adequate response to the growing threat of climate change in developing countries requires more action from all stakeholders but, in particular, a greater role for the private sector.

Specifically, the involvement of micro, small and medium-sized enterprises (MSMEs) will be vital. MSMEs account for a large share of GDP and employment around the world, and are therefore vital to help mobilize the volume of investments and implement the scope of activities required to move developing countries to a low-emission, climate-resilient development pathway.

There is currently no clear strategy for increasing MSME involvement in climate change action. The global response has been focused on the development of publicly driven funds, such as the Adaptation Fund, rather than mobilization of the private sector. The gap between policy needs and investment and funding opportunities for MSMEs in developing countries remains an uncertain feature of the landscape1.

The Climate and Development Knowledge Network (CDKN) commissioned this report in response to these uncertainties. The report aims to facilitate a structured dialogue between a wide range of

stakeholders, particularly focusing on those involved in the design and scale-up of the Green Climate Fund (GCF), around how to increase MSME involvement in climate action. The GCF has recognised the importance of engaging MSMEs and has approved the creation of a specific MSME Program within its Private Sector Facility. Discussions around the role of MSMEs are in their early stages. Over the next six months the GCF Board, along with the GCF Secretariat and advisors from the Private Sector Advisory Group (PSAG), will continue to develop the MSME Program’s strategy. This report provides input to these discussions and aims to initiate a wider discussion on how to increase MSME access to climate finance. Specifically, this report puts forward a range of options for instruments and solutions that the GCF MSME Program could support, and also suggests how these might be delivered and where they might have the most impact.

2 | Introduction

1 At the Adaptation Fund NIE / RIE / MIE workshop, Stakeholders agreed that engagement of the private sector will be necessary to mobilize the volume and rate of investments needed to build climate-resilient development, but identified that there is no clear strategy for how this could be achieved.

6

INTRODUCTION 7

The key question the report aims to answer is, “What are the options available for the design of the GCF’s MSME investment program?”

2.2 Methodology

This report on increasing MSME access to climate finance was drafted by Dalberg Global Development Advisors. The project team used a combination of quantitative and qualitative analysis to develop the findings in the report. The data and information for this report came from a wide variety of sources, including existing literature, analysis, and expert interviews (see annex for list of interviewees).

The report looks at the three main design pillars of an MSME program – barriers and solutions, investment focus, and delivery options – as outlined in Figure 1. Using this approach, the report aims to contribute to answering the key strategic questions around the design of the MSME program.

Barriers and solutions gives an overview of the challenges faced by MSMEs when accessing climate finance, and identifies possible solutions and examples of where these have been successfully implemented. A large amount of literature exists around how to address access-to-finance barriers for MSMEs, but there has been very little focus on specific climate finance for MSMEs.

Investment focus estimates the overall volume of support required for MSMEs, and presents an approach for prioritising support for MSMEs in specific sectors in developing countries.

Delivery channels provides an overview of the various options available for channeling funds to MSMEs. For each channel, the report gives a description of the advantages and disadvantages and case studies of where these delivery channel models are being used.

Figure 1: Dalberg approach focuses on core elements of MSME Program design.

Barriers & solutions Investment focus Delivery channels

Key question

Which tools are available and appropriate to support MSME climate action?

Which countries and sectors should GCF prioritise for investment?

ThroughwhichchannelsshouldGCF provide support to MSMEs?

Key analyses

• MSMEsclimatefinanceframework

• Barriers analysis• Solutions analysis• Case studies

• MSME distribution by country and sector

• Financial reach• Climatefinanceneed• Sector vulnerability and

potential impact

• Delivery channels options assessment

• Case studies

Implications and options

• Options and instruments required to address MSME climatefinancebarriers

• Options and approach to sector prioritisation

• Options for delivery channels, andthoughtsonhowtoprioritise

MSME PROGRAM

CLIMATE FINANCE LANDSCAPE 8

3 Climate Finance Landscape

PrivatesectorclimatefinanceinvestmentwillneedtogrowsignificantlytoreachtheUSD1trillionneeded globally each year.

3.1 Climate finance flows

Climate change is likely to have an increasingly negative impact in developing countries in the future. It is expected to cause decreased agricultural yields, reduced freshwater availability and increased prevalence of storms.

This will result in the loss of lives and destruction of livelihoods and property, and will cause average GDP losses of around 8% in Least Developed Countries in 20302. These effects will be most severe in developing countries, as they tend to occur in low latitudes where climate change damage is likely to be concentrated, and they have a larger share of their economies in sectors that are highly dependent on the climate.

The World Bank estimates that developing countries need USD 100 billion per year to adapt to the expected effects of climate change3. The UNFCCC estimates that developing countries require USD 400 billion per year to shift to green development paths4.

Current climate finance flows to developing countries fall short of this requirement. In 2011 and 2012, only USD 182 billion in climate finance flowed into developing countries,

representing a shortfall of USD 318 billion each year5. Despite the need for more climate finance, the annual total dropped to USD 165 billion in 2013, thereby increasing the shortfall to USD 335 billion5. The impact has been to restrict climate change mitigation and adaptation activities in developing countries, increasing their vulnerability to climate change effects.

3.2 Role of the private sector

The private sector is the largest energy user and greenhouse gas producer, and therefore will play a vital role in mitigation. The private sector will undoubtedly also require greater climate resilience to protect its business interests (including a wide range of factors beyond direct business assets, extending to resilience of employees and their families, consumers, infrastructure, supply chains, etc). Globally, the private sector spends USD 191 billion per year on climate mitigation and

3 | Climate Finance Landscape

2 Climate Vulnerability Monitor 2nd Edition: A guide to the cold calculus of a hot planet, DARA and the Climate Vulnerable Forum.

3 The Economics of Adaptation to Climate Change, The World Bank Group.

4 Investment and Financial Flows to address Climate Change, UNFCC.

5 The Global Landscape of Climate Finance 2013, 2014, Climate Policy Initiative.



adaptation, which represents more than half of all climate finance. Future private sector climate finance investment will need to grow significantly in the future if we are to reach the USD 1 trillion needed globally each year 6 (Figure 2). If the private sector share of climate finance remains constant, it would need to invest USD 580 million annually to keep the Earth on a 2°C emission path5. However, it is possible that even more will be needed from the private sector, as the public sector will likely be unable to provide the remainder of the USD 1 trillion.

MSMEs account for 90% of businesses in developing countries7 and even small changes to behaviours, energy use, water consumptions, etc. have significant potential for impact. Greening MSMEs is essential to help move the private sector to a low carbon trajectory. Beyond this, some MSMEs provide essential climate technologies that have significant potential to drive mitigation and adaptation across economies. Due to their local networks in many developing countries, MSMEs are

Unknown 61

Public/Private Sector 32

Private Sector 579

Public Sector 46

Private 191

Current spenders of climate finance, 2013 (USD Billions) Total finance = USD 330B

Future private sector spending of climate finance (USD Billions) Total finance = USD 1000B

Figure 2: Role of private sector in the spending of climate finance spending.

6 Energy Technology Perspectives 2014: Harnessing Electricity’s Potential. International Energy Agency.

7 The SME Banking Knowledge Guide, IFC.


8Two trillion and counting: Assessing the credit gap for micro, small and medium-size enterprises in the developing world, McKinsey & Company and IFC.9The Global Landscape of Climate Finance 2014, Climate Policy Initiative.

uniquely positioned to deliver such technologies and services to the base of the pyramid and increase the resilience of the poorest populations.

Estimating the size and scope of the climate finance need for MSMEs is challenging. Existing analyses give estimates of the annual MSME credit gap at around USD 2.5 trillion8 , and the annual climate finance gap at around USD 600 - 700 billion per year9. The climate finance gap for MSMEs is the intersection of these two estimates (Figure 3), but the amount required has not been estimated due to the absence of reliable and consistently monitored sources of data on earmarked financial flows to MSMEs. In the investment prioritisation section, this report pulls together existing data sources to make some high-level estimates of the need for MSME climate finance.

3.3 Role of the GCF

The GCF’s objective is to “promote the paradigm shift toward low-emission and climate-resilient development pathways by providing support to developing countries to

Size Employee number Assets (USD, M)

Annual Sales (US, M)

Medium <300 ≤5 ≤15

Small <50 ≤3 ≤3

Micro <10 ≤0.01 ≤0.01

Table 1: World Bank definitions of MSMEs (enterprise must meet at least two of three characteristics).

Institutions use parameters including number of employees, annual sales and value of fixed assets to define MSMEs. This report defines MSMEs according to the World Bank definition, in which a business is classified as a MSME when it meets two of the three criteria outlined below.

Figure 3: MSME climate finance gap.

?MSME credit gap

(USD 2,500 B)

Climatefinance gap(USD 643 B)


limit or reduce their greenhouse gas emissions and to adapt to the impacts of climate change, taking into account the needs of those developing countries particularly vulnerable to the adverse effects of climate change”10. The fund will aim for a 50/50 balance between adaptation and mitigation activities, and will prioritise support for least developed countries (LDCs), small-island developing states (SIDS) and African states. The GCF also aims to make a significant allocation of funds to the private sector and to maximise private sector engagement.

To maximise private sector engagement, the Board established a PSF through which private sector-destined funds will flow. The PSF will enable the GCF to finance private sector mitigation and adaptation activities, and mobilize private sector capital.

One of the key aims of the Private Sector Facility (PSF) is to establish an MSME Program to promote

the participation of local actors, including small- and medium-size enterprises and local financial intermediaries in climate mitigation and adaptation activities11. To achieve this, it was recommended that the Board establish a dedicated MSME Investment Strategy, allocate a portion of resources for MSMEs and create an MSME Program12. Through these activities, the GCF could significantly increase the amount of climate finance available for MSMEs and increase MSME involvement in climate change activities.

Figure 4: The structure of the Green Climate Fund.13

10 Governing Instrument for the Green Climate Fund, Green Climate Fund.

11 Governing Instrument for the Green Climate Fund, Green Climate Fund.

12 Recommendations from the Private Sector Advisory Group: Private Sector Facility: Engaging Local Private Sector Actors, including Small-and Medium Size Enterprises, Green Climate Fund.

13 Adapted from Business model framework of the Green Climate Fund, IDFC Concept Paper in association with UNDP.

Projects, programs, policies, plans, NAMAs, NAPAsClimate activities

National Designated Authorities

Funding WindowsPrivate Sector Facility

MSME Program

Subnational, national, regional implementing entities

Direct Access / Enhanced Direct Access

UN Agencies, MDBs, IFIs, Regional institutionsInternational Access

Stakeholders

GCFfinancingmechanisms

MSME focus

Activities

Flowoffunds

Flowofinformation

Green Climate FundWB Trustee, Board, Secretariat

BARRIERS AND SOLUTIONS 13

4 Barriers and Solutions

The capacity for MSMEs to realise their potential role in climate action is restricted by a lack of access to climatefinance.


4.1 Overview

The capacity for MSMEs to realise their potential role in climate action is restricted by a lack of access to climate finance. This is due to three factors: weak enabling environments; limited knowledge and awareness of investment opportunities; inadequate financial products ( Figure 5).

4 | Barriers and Solutions

Description of the barrier Solution set

The size and type of financial products does not meet the demand characteristics of MSMEs.

Scaling up and tailoring the supply of existing products to meet the demand, or designing new structures that can help to overcome barriers.

At the consumer, MSME and financial intermediary levels, there is a lack of awareness and information which results in financing being unavailable to the sector.

Identifying marketing, communications and knowledge products which are required to build the credibility of the sector.

Access to financial products is often limited or completely prevented by misaligned or poorly enforced policies.

Identifying policy priority directives, initiatives or areas which if addressed can unlock finance for the sector.

Figure 5: Barriers and solutions to improving access to finance for MSMEs.

Targeted financialproducts

Reducingknowledgegaps and increasing

awareness

Improving the policy and enabling environment


Interaction:

• Investors provide intermediaries with financing (debt, equity, grants and risk products including

guarantees and insurance), and information on financing opportunities and requirements

• Intermediaries provide investors with returns, and information on the performance of investments

(financial and climate impact) and their financing needs

Each of these barriers exist within or between three main stakeholders groups: investors, intermediaries and MSMEs (Figure 6).

In the following section, the report maps out barriers and solutions across and between these stakeholders and provides case studies to illustrate how the challenge of MSME access to finance is being addressed in climate and non-climate sectors.

Figure 6: Key stakeholder interactions.

Intermediaries

MSMEs

Interaction:

• Intermediaries provide MSMEs with finance (loans, equity investments, grants, insurance), and

information on financing opportunities and requirements

• MSMSEs provide intermediaries with returns or interest payments, and information on company

activities and capacities, the performance of investments (financial and climate impact), and their

financing needs

• Credit bureaus also provide information on MSMEs to intermediaries

Investors

Enabling environment Knowledgeandawareness Financing

Investors

Strengthening financial infrastructure and climate policies and strategies will encourage green investments.

Creating match-making platforms will help to inform investors about green financing opportunities, and help to facilitate these investments.

Creating risk-mitigation mechanisms will improve the risk-return profile of green investments and unlock private investments.

Intermediaries

Adjusting legal and regulatory frameworks, and creating priority sector lending policies for MSMEs will encourage and push intermediaries into the market.

Creating match-making platforms will help to connect intermediaries with green capital, and technical assistance programs will improve their ability to on-lend finance to MSMEs.

Earmarking financing for green MSME investments will attract intermediaries to the market, and the creation of risk-mitigation mechanisms will reduce the cost of MSME transactions.

MSMEs

Facilitating and incentivising the use and production of high-quality climate technologies will encourage MSME involvement in climate action.

Creating match-making platforms will help to inform MSMEs of green financing opportunities, and technical assistance programs will improve their ability to take on financing.

Creating tailored MSME financing products will increase MSME demand for financing and improve their ability to access the finance.

Enabling environment Knowledgeandawareness Financing

Investors

Weak financial architectures and political instability means investment in emerging markets is unattractive.

Poor communication channels between investors and intermediaries, which means investors are not aware of financing opportunities.

High risks associated with investing in intermediaries who on-lend to MSMEs make investments less attractive and more costly for investors.

Intermediaries

Weak financial infrastructure and limiting legal and regulatory frameworks limits intermediaries involvement in the MSME market.

Strict investor eligibility and reporting criteria make it difficult for intermediaries to access funds, and limited capacity in intermediaries means they cannot accurately assess MSMEs.

High transaction costs of MSME investments make investing in MSMEs unattractive and unprofitable.

MSMEs

Weak legal frameworks and prohibitive international trade laws in emerging markets limit MSME access to markets.

Poor communication between intermediaries and MSMEs means MSMEs do not know about financial opportunities, and limited technical capacity means it is difficult for MSMEs to meet application, eligibility and reporting criteria.

Insufficient collateral or credit history makes it difficult for MSMEs to access finance, and finance available is typically too short-term to be attractive for MSMEs.


Figure 7: Barriers to improving access to climate finance for MSMEs.

Figure 8: Solutions to improving access to climate finance for MSMEs.


Green Funds Scheme (GFS), Netherlands4.2 Improving the policy and enabling environment

One of the major barriers limiting climate-related MSME investments is that the business environment and climate investment policies do not support or encourage climate-compatible investments in MSMEs (Table 2 overleaf). Weak policies, inadequate financial infrastructure and political instability can limit the attractiveness of MSME climate investments by increasing bureaucracy or reducing profitability.

Overcoming these challenges will require policies that address the challenges associated with financing MSMEs and the lack of regulations and incentives around providing green finance. Such policies range from administrative simplification and control of corruption, to tax and regulatory regimes to support MSME and green investments (Table 2 overleaf). These could be implemented by the government in close consultation with the private sector and civil society.

Weak climate policies reduce the attractiveness of climate-related investments. Many developing countries do not have a clear climate change strategy, making it difficult for

investors to make long-term climate investments. Counterproductive fossil-fuel subsidies still exist in many countries, and in general taxes fail to adequately price pollution. Some subsidies for green technologies exist, but they tend to be limited in availability and accessibility and could further increase the competitiveness of green investments.

The development of national strategic plans for climate change could reduce investment uncertainty for investors. Well-defined national climate change polices should allow investors to identify government-backed green opportunities. Good policies should also identify ambitious renewable energy and adaptation targets, and identify investment opportunities to meet these targets.

Financial incentives to encourage green investment and discourage brown investments could help to make returns on climate investments more attractive relative to traditional investments. Tax credits and waivers could actively encourage green investment by offsetting the below-market return rates associated with some green investments, as is done in the Green Funds Scheme in the Netherlands. (Figure 9) Policies that discourage traditional brown

Tax credit

The GFS is a tax credit scheme that encourages stakeholders to make green investments. The GFS allows investors to invest in specific funds that finance environmental projects. Investors receive a below-market interest rate on their investment, enabling the banks to offer cheaper loans to green projects. The lower interest rate is offset by a tax credit and a waiver on dividend and interest payments. As a result of the scheme, 250,000 investors have invested EUR 7 billion in green funds, funding 6,000 green projects.

Key successes and

challenges

Key successes

• New stakeholders have been involved in the provision of green finance

Key challenges

• Knowledge of the scheme amongst potential investors is limited

Assessment

Key factors Description

GCFcriteria

Leverage Achieved a 1:40 leverage ratio.

Country-driven approach

Government-led initiative.

Climate impact6,000 projects have been funded resulting in an annual decrease of 0.5 Mt CO2 emissions.

OtherScale

National-level initiative, with potential to be replicated in other countries.

Sustainability Self-sustaining.

Government legislation allows banks to provide low-cost loans to green projects by compensating

owners of private capital with a tax credit.

Tax payments

Low-cost loansLoan repayments

14 The Green Funds Scheme: A success story in the making, NL Agency, Ministry of Housing, Spatial Planning and the Environment (NL Agency, Ministry of Housing, Spatial Planning and the Environment).

Figure 9: Overview of the Green Funds Scheme implemented in the Netherlands.14

Investment Below-market interest payments

Green funds

Investors

Green projects

Government


Table 2: Investment, trade and climate policy barriers that restrict the flow of finance across the MSME financing chain and possible solutions.15,16,

Stakeholder Barrier Description Solution and case study

Investors

Weak financial infrastructure

Financial systems in developing countries are less liquid than mature economies with a reliance on bank lending and underdeveloped stock markets. Investment exits are difficult to arrange, restricting the flow of funds into MSMEs in developed markets.

Political instability Political instability leads to raised investment risks, and fickle policies and regulations reduce long-term investor confidence.

Weak climate policies Weak climate policies in some developing countries fail to sufficiently price pollution, make green projects less competitive than polluting projects, introduce regulatory risk and increase uncertainty for private investors as governments may make sudden or retroactive changes to climate policies and support systems (e.g. reversal of clean energy subsidies).

Develop national climate changepolicies - Ethiopia’s Climate Resilient-Green Economy.

Lack of long-term CC vision and targets

Countries sometimes do not have coherent country vision or targets for climate change, making it difficult for investors to identify green investment opportunities that align with national priorities.

Incentivise green investments -Green Funds Scheme, Netherlands.

Intermediaries

Weak financial infrastructure

International regulations around accounting, auditing standards, credit reporting systems, collateral and insolvency regimes are often created without considering MSMEs, which makes it difficult to lend to MSMEs.

Adjust investment regulations - SMEDevelopment Framework, Malaysia.

Limiting legal and regulatory frameworks

Banking regulations limit the entry of intermediaries into the market limiting competition, reducing incentives for intermediaries to expand into underserved segments, such as MSMEs. Some regulations also impose interest rate ceilings, which prevent banks from covering MSME lending risks.

Improve insolvency frameworks -Insolvency reforms, Europe.

Lack of financial policies that support green investments

Traditional sources of capital have increasing constraints on their ability to make long-term MSME investments due to impeding regulations around capital and risk requirements. Also, inadequate insolvency frameworks reduces intermediaries’ willingness to provide credit to MSMEs in new and unproven business models.

Develop pro-MSME or pro-greenlending policies - Priority SectorLending, India; Framework Act on LowCarbon, Green Growth , Republic ofKorea.

MSMEs

Limiting international trade laws

Unfavourable and inconsistent foreign and domestic rules and regulations limit MSME export potential, and their ability to compete on an international market. Typically, developing country MSMEs seeking to export to other countries will face significantly higher tariff rates.

Promote free trade in green goodsand services - Asia-Pacific EconomicCooperation policy on green freetrade.

Weak legal / enforcing frameworks

Lack of uniform standardisation and rating systems for products and services allows low quality products into the market, reducing the ability of quality MSMEs to compete and reducing consumer trust in the market.

Create national standards for greengoods and services - IFC/WorldBank‘s Lighting Africa initiative.

Counterproductive subsidies

Subsidies for fossil-fuel production and consumption still exist in many countries. Where available, subsidies for climate compatible development are often low and disbursement decisions and timelines are not transparent, reducing the incentive for MSMEs to enter the clean energy market, or consumers to switch to clean practices.

End counterproductive subsidiesand incentives - Reform of fuelsubsidies, Ghana.

Absence of market incentives

Absence of incentives such as advanced market commitments or power purchase agreements limits the incentives for MSMEs to get involved in the production of clean energy.

Create green incentives for MSMEs -GET FiT, Uganda.

15 Scaling-Up SME Access to Financial Services in the Developing World, IFC.

16 Expert interviews.


investments, such as a carbon tax, can help to redirect investment from brown to green technologies. Policies that ensure the price of carbon remains high and stable could also help to change behaviours and investment decisions in the long-term17.

Weak financial infrastructures in some developing countries limit the pool of finance available to MSMEs, and regulatory frameworks often reduce the attractiveness of MSME investments. Interest rate ceilings, weak insolvency regimes and collateral requirements are poorly aligned with MSME needs and capacities, and restrict expansion of intermediaries into MSME markets.

Investment regulations and insolvency regimes could be improved to increase the viability of MSME investments. International and national investment regulations could be adjusted by reducing MSME capital and collateral requirements, simplifying accounting, auditing standards and credit reporting requirements for MSMEs, and removing interest rate ceilings. These adjustments could make it easier for intermediaries to on-lend finance to

MSMEs. Additionally, by updating insolvency regimes to outline a clear method for liquidation in which creditors are repaid and debts are discharged, intermediaries could be encouraged to invest in new and unproven MSME green business models.

The enabling environment could also be improved through pro-sector lending policies – the development of regulations that require a fixed percentage of lending to go to a particular sector. Governments could establish policies that require intermediaries to lend a certain proportion of credit to green projects and MSMEs. If these policies are coupled with regulations that allow increased entry of intermediaries into the market to promote competition and reduce margins on traditional lines, intermediaries could start to offer attractive products for green MSME activities. Pro-lending policies have been implemented in India, and the credit supply to agriculture, export and MSME sectors has been increased by an average CAGR of 20% in the last decade (Figure 10)18.

Priority Sector Lending policy, India

The Priority Sector Lending policy is a regulation requiring a fixed percentage of lending to be in underserved and target markets including the MSME sector. The objective of the policy is to increase the provision of finance to underserved markets, and increase the competitiveness of these markets. As a result of the policy, around 90 banks have lent INR 15 Trillion to priority sectors over 40 years.

Key successes and challenges

Key successes

• Credit supply for agriculture, exports and MSME sectors has been successfully increased by an average CAGR of 20% in the last decade

Key challenges

• The policy has high opportunity costs – bank lending choices are narrowed and loan repayments become dependent on a small set of specific sectors

Assessment


GCFcriteria

Leverage USD 250 B has been lent to priority sectors by the private sector, without public sector funding.


Government-led initiative.

Climate impactDoes not specifically targeted toward climate changes.

Other

Scale National-level initiative, with potential to be replicated in other countries.

SustainabilitySelf-sustaining, however there are concerns over its effect on the profitability of commercial banks.

The Priority Sector Lending policy means that banks must dedicate a certain proportion of their lending to underserved or target markets. (% are

illustrative only).

Figure 10: Overview of the Priority Sector Lending policy implemented in India.18

Tax payments

Government

Banks

Priority Sector Lending Policy

Flow of Finance

Traditional sectors

Priority sector 1

Priority sector 2

80% 15% 5%

17 The Green Funds Scheme: A success story in the making, NL Agency, Ministry of Housing, Spatial Planning and the Environment (NL Agency, Ministry of Housing, Spatial Planning and the Environment)

18 Reprioritising Priority Sector Lending in India: Impact of priority sector lending on India’s Commercial Banks, Nathan Associates Inc.


To encourage MSME involvement with climate technologies, policies could promote the free trade of, and national standards for, climate technologies. Trade liberalisation of green technologies would remove prohibitive financial and nonfinancial import and export tariffs, which could facilitate MSME access to international markets. This could create a positive incentive for MSMEs to produce green technologies. Developing national standards for green technologies, as well as a rating and assessment procedure, could help to prevent poor-quality products from coming to market. This should allow MSMEs to produce high-quality, green technologies to compete effectively in the market and help to build trusting consumer markets.

A supportive enabling environment could also support MSMEs to undertake greening activities by providing green incentives and ending counterproductive subsidies. Developing national plans to phase out fossil-fuel subsidies or subsidies for brown technologies will remove market distortions toward fossil fuels and cause a shift by consumers and producers to green technologies and practices. MSMEs can also be incentivised to use and produce green technologies through feed-in tariffs. Developing a national feed-in tariff program that provides performance-based tariffs tailored for MSMEs would encourage MSMEs to shift to renewable energy sources and encourage MSMEs to enter into small-scale, clean energy production

(Figure 11).

GET FiT, Uganda

The objective of GET FiT is to leverage private investment into renewable energy (RE) generation projects in Uganda. It aims to close the gap between the current RE feed in tariffs (REFiT) and the financial incentives needed by investors, through a results-based payment that tops up Uganda’s REFiT and is front-loaded to the first 5 years of operation. The GET Fit portfolio has supported 17 projects to date, which produce 128 MW of renewable energy.


Key successes

• The program has catalysed over USD 400 M of investments

Key challenges

• It has been difficult to integrate small renewables into the existing grid infrastructure, and legal and regulatory barriers (tax reforms and cross-border issues) have prevented projects reaching financial close

Assessment


GCFcriteria

Leverage Achieved a 1:5 leverage ratio.


Joint development between the Government of Uganda, Uganda’s Electricity Regulatory Authority and KfW.

Climate impactAnticipated emissions reductions of 11 Mt CO2 over the 20-year lifespan of the program.

Other

Scale Operational in Uganda, but plans to expand across East Africa.

Sustainability Fully funded by a single donor.

The GET FIT Premium Payment Mechanism provides additional cash flow to project owners in

the early phase of debt repayment).

Figure 11: Overview of the Get FiT Program in Uganda.19,20

Commercial operation

Over first 5 years

RE projects (1MW to 20MW)

19 GET FiT Uganda Annual Report 2014.20 Mobilizing Public and Private Funds for Inclusive

Green Growth Investment in Developing Countries, IFC.

REFiT payments

50% 50%

Get FiT Premium Payments

Feed-in tarrifs


4.3 Reducing knowledge gaps and increasing awareness

Supply and demand for MSME climate finance can be restricted due to a lack of knowledge and awareness because either i) stakeholders are not aware of the opportunities or ii) they are aware, but do not fully understand or appreciate the opportunity.

The lack of awareness can be due to a wide variety of reasons that often relate to inadequate efforts to market available opportunities. A lack of knowledge and understanding of climate finance opportunities could be due to the inherently nascent nature of several climate technology markets. Specifically, investors might be reticent to invest in new technologies, or intermediaries and MSMEs might not have the skills necessary to fully assess all costs and benefits of a particular climate finance product (Figure 12).

Barrier Greening Climate goods and services

Lack of awareness of green opportunities

Investors do not know about the benefits of greening technologies, and intermediaries do not know about funds earmarked for energy efficiency investments.

Investors do not know about the potential financial returns and environmental benefits of climate goods and services, and intermediaries do not know about funds earmarked for climate compatible investments.

Lack of Capacity

Intermediaries lack experience in providing C02 emission reduction reports required by investments.

Intermediaries lack experience in providing C02 emission reduction reports required by investment.

Lack of awareness of green opportunities

MSMEs are not aware of the long-term impacts greening investments can have.

MSMEs do not know about specific products available for climate compatible activities.

Lack of Capacity

Intermediaries do not have the technical skills to assess the savings from energy efficiency investments, and MSMEs lack the capacity to provide CO2 emission reduction reports required by intermediaries.

MSMEs lack the capacity to provide CO2 emission reduction reports required by intermediaries.

Figure 12: Access to climate finance barriers relating to a lack of knowledge and awareness.

Intermediaries

MSMEs

Investors


Matchmaking platforms and technical assistance programs are common ways of increasing knowledge and awareness. They can help to increase the flow of information between stakeholders to unlock capital and to increase the capacity of actors to give and receive finance. Access to a greater volume of more reliable information will help investors, intermediaries and MSMEs become more aware of, and confident in, MSME investment opportunities.

An effective green MSME matchmaking platform could have three main components – outreach, matchmaking and facilitation – as shown in figure 13. Through outreach, the platform could interact with stakeholders at all levels to provide information through online campaigns, workshops and conferences on green MSME investment opportunities. The REEP Investment Accelerator (Figure 14) is an example of a matchmaking program that has successfully connected MSMEs with investors.

Investors Intermediaries MSMEs

Outreach

Matchmaking

Facilitation

MATCHMAKING PLATFORM(Regional,national or sub-national)

DealsKey:

Stakeholders Programs

Figure 13: The structure of an MSME matchmaking platform.

REEP Investment Accelerator

REEP is an NGO that invests funds in MSMEs and ventures that have strong potential to generate clean energy market growth. The REEP investment accelerator aims to connect MSMEs with investors. MSMEs selected for the REEP portfolio are provided with business training and mentoring, and de-risking support to improve the viability of projects. MSMEs are then connected directly with private investors.


Key successes

• REEP has brought in their first partner, CTI PFAN - a network of private investors active in the clean energy sector, and are running a “Phased financing facility”

Key challenges

• Vetting and selecting the best potential projects for support and presenting them to investors is challenging

Assessment


GCFcriteria

Leverage n/a


Works directly with local entrepreneurs, rather than through the government or national entities.

Climate impact Focuses exclusively on climate investments, and its portfolio has the potential for significant climate impact.

Other

Scale Operates internationally, but is still in its early stages.

Sustainability Fully funded by several donors, and is a new initiative.

The REEP Investment Accelerator aims to connect early stage entrepreneurs and MSMEs

with investors.

Figure 14: Overview of the REEP Investment Accelerator.21

21 REEP Annual Report 2013, 2014

Climate MSME /ventures

Private investors

BusinessOppprtunities

Business support

Investment Accelerator

REEP

Finance


Technical assistance (TA) programs aim to increase the capacity of stakeholders to access, process and relay accurate information, and build internal institutional capacities to meet financial and operational requirements. This could help intermediaries to offer specific green financial products and help MSMEs to access finance. One example of a MSME TA program is the Small Enterprise Assistance Fund Business Assistance Program (Figure 15).

The components, structure and financing of TA programs varies (Table 3 overleaf) and should be tailored to the needs of the recipient.

In general, TA programs focus on building staff capacities and ensuring that recipients have the tools required to execute activities. The modules used in TA programs are likely to include training on how to find, develop, execute, rep ort and troubleshoot business opportunities (Table 3 overleaf), but should be tailored to the capacity gaps of the recipient. TA programs are typically funded by donor grants, which may be stand-alone or coupled to other financial products. In general, donors are beginning to favour a co-financing model for TA programs, to ensure that recipients are encouraged build long-term institutional capacities.

Small Enterprise Assistance Fund Business Assistance Program

The Small Enterprise Assistance Fund (SEAF) Business Assistance Program provides customized business assistance to SMEs in developing economies in fields including corporate governance, financial control and operations. SMEs receive business assistance through a network of partners including investment teams, industry experts and mentoring entrepreneurs. The program has supported 338 projects since its inception.


Key successes

• SMEs that have received business assistance outperform GDP growth rates by 15% and employment growth rates by 24%

Key challenges

• Coordinating assistance between the network of partners and SMEs can be expensive

Assessment


GCFcriteria

Leverage n/a


Works directly with individual SMEs, rather than through the government or national entities.

Climate impact Does not specifically target climate change, but targets companies with environmental impact.

Other

Scale International, and has operated in 22 different countries since inception.


The SEAF Business Assistance program uses its international network of experts to provide customized

business assistance to SMEs.

Figure 15: Overview of the Small Enterprise Assistance Fund Business Assistance Program.22

22 Small Enterprise Assistance Funds; Impact Beyond Investment: SEAF’s 2011 Development Impact Report

SEAF

SMEs

Business Assistance Program

Investment teams

Industry experts CEED

Technical assistance

Donor

FI/MSME Service provider/ seconded expert

Staff

TA ProgramTools

TA ProgramTA target areas

Flow of grant financeFlow of grant financeFlow of grant finance

Figure 16: Technical assistance program structure.

Note: Grant finance can flow either directly from the donor to the external facilitator, or can be given to an FI/ MSME, who then pays the external facilitator for their services. Staff may or may not be seconded from the external facilitator to the FI / MSME.

Key:


TA recipient Improve staff skills Improve tools

Financial Intermediary

• Finding new business opportunities and developing a pipeline

• Developing suitable financial products and services • Assessing MSMEs and businesses that use new

technologies• Understanding and meeting monitoring and reporting

requirements, including measuring climate impact of investments

• Developing business relationships and troubleshooting capabilities

• Marketing and engagement strategies• Due diligence frameworks, and performance prediction models• Monitoring and evaluation frameworks• Early warning systems (to signal a failing investments) and corresponding

decision trees

MSME

• Finding new business opportunities (greening and climate technologies)

• Designing bankable projects • Improving financial literacy skills • Understanding and completing financial applications• Understanding and meeting monitoring and reporting

requirements, including measuring climate impact of investments

• Developing business relationships and troubleshooting capabilities

• Accounting frameworks • Monitoring and evaluation frameworks • Early warning systems (to signal a failing investment) and corresponding

decision trees

Table 3: Typical TA modules for intermeidiares and MSMEs.

25BARRIERS AND SOLUTIONS 25

4.4 Targeted financial products

There are three main barriers that result in existing financial products being poorly suited for MSME climate financing (Figure 17): funding is difficult for intermediaries and MSMEs to access; there are high costs and high risks associated with lending to MSMEs; and products are sub-optimally designed for MSME needs.

Figure 18 outlines the range of solutions that could be implemented to address these barriers and improve financial access and delivery channels, as well as reduce risk and structure products to

match recipient requirements.

Barrier Greening Climate goods and services

Funding is difficult for intermediaries to access

Onerous investor reporting requirements (CO2 emission reductions, climate impact, positive externalities) limit the demand for funding from intermediaries.

Onerous investor reporting requirements (CO2 emission reductions, climate impact, positive externalities) limit the demand for funding from intermediaries.

High cost and risk of lending to MSMEs

High default risk associated with investing in new technologies.

High default risk associated with investing in new technologies and nascent climate markets.

Transaction costs are high due to the small ticket sizes associated with greening investments.

Figure 17: Barriers resulting in financial products that are unsuitable for MSME climate financing.

Interaction Barrier Solution Examples

Funding is difficult for intermediaries to access.

Earmarked funding for MSME climate investments. IFC / GEF Small and Medium Scale Enterprise Program.

Simplified application criteria. European DFIs.

High cost and risk of lending to MSMEs.

Risk / cost sharing mechanisms for intermediaries.

Provision of concessional finance / grants.

Pilot Program for Climate Resilience.

First loss investments.Regional MSME Investment Fund for Sub-Saharan Africa (RegiMIFA).

Guarantees. European Investment Fund SME Initiative.

Build MSME networks / aggregation points. Nexus Carbon Finance, South-East Asia.

Financing is difficult for MSMEs to access.

Use alternative collateral sources or methods to assess credit worthiness.

ICICI Bank MSME program, India.

Sub-optimal product design.

Provide tailored MSME financing products.

Products tailored for different stages of the MSME life cycle. Product or sector specific products.

Shell Foundation / OPEC responsibility Working Capital Energy Fund.

The Global Innovation Lab for Climate Finance Energy Savings Insurance Program, Mexico (pilot).

Figure 18: Use of tailored financial products to overcome specific financing barriers .

Intermediaries

Investors

MSME

Intermediaries

MSMEs

Investors

Financing is difficult to access

MSMEs have unreliable cash flows due to weak consumer markets, so cannot access financing on the basis of income receivables.

Sub-optimal product design

Savings from greening investments take a long time to accumulate and becotver banks are often reliant on short-term liabilities and can only offer short-term financing.

There is a lack of working capital for climate relevant MSME start-ups.

BARRIERS AND SOLUTIONS 26BARRIERS AND SOLUTIONS 2626

4.4.1 Improving the accessibility of funds for intermediaries

Increasing the pool of available finance for on-lending by intermediaries could encourage intermediaries to enter the market. Earmarking funds for MSME climate investments could prevent competition for financing with larger, more attractive investments, and incentivise intermediaries to develop green investment practices for MSMEs. Funds could be earmarked for debt, equity, and insurance investments and products to encourage a range of lending practices. However, as banks are targeting MSMEs as a profitable sector, earmarked funding for green lending to MSMEs may distort the market. This should be carefully regulated, and the use of funding should be strictly monitored.

Alternatively, intermediaries could be encouraged to enter the market by improving the accessibility of funds by simplifying application criteria. This will help to reduce approval times to keep commercial actors interested. Simplification can be done at all stages of the interaction. First, application criteria should be clearly stated and should recognise that new players

need to be able to access the market. Therefore, an overreliance on track record with MSMEs could be prohibitive. The assessment procedure should be transparent, and if an institution is rejected, the reason for their rejection must be clearly communicated to encourage reapplication. Lenders could provide autonomy to intermediaries over project selection to reduce decision timelines and improve efficiency. Finally, reporting metrics should be developed to align with institutional interests, capacities and business practices23.

4.4.2 Reducing the cost and risk of lending to MSMEs

The high default risk often associated (or perceived) with lending to MSMEs – one of the biggest barriers facing investors and intermediaries – could be mitigated using risk-sharing mechanisms such as concessional finance, first-loss investments and guarantees. Risk-sharing mechanisms reallocate the risk of investments from commercial partners to public sector institutions. They could effectively encourage investments in green markets and MSME sectors where the perceived risk is higher than the actual risk. Risk management is critical in a relatively new industry such as MSME green banking, because there is less information on how to mitigate risks,

and business models are unproven. However, the risks are not unique; they include credit, market, strategic and operational risks, which can be mitigated using traditional tools that are tailored for the green MSME market. Concessional loans and grants (Figure 19) could reduce the gap in the risk-return expectations of investors.

23 Expert Interviews.

Figure 19: Concession loans blueprint.

Institutional Investors

Financial Intermediaries

MSME MSME MSME

Concessinal FL loans

MSME loans


The below-market interest rates of concessional finance allow investors to make higher risk investments without having to charge uncompetitive interest rates to borrowers. Concessionality can be linked to the achievement of desired results, through interest rate reductions or longer tenor. Concessional loans are widely used across the climate finance and development space, and are the instruments used by climate funds in the Pilot Program for Climate Resilience window (Figure 20). This program has helped to build agricultural practices and climate-resilient water supply systems in some of the world’s most vulnerable countries.

First-loss investments mitigate risks for senior lenders and could attract more risk-averse investors to the market (Figure 21). By having different investor loss profiles, funds can attract a range of investors with different risk appetites, thereby increasing the range of active investors25. For example, the Regional MSME Investment Fund for sub-Saharan Africa (Figure 22 overleaf), is a multilayer fund that combines funds from multiple investors and invests in MSME lending institutions.

Pilot Program for Climate Resilience

The Pilot Program for Climate Resilience is a targeted window of the Climate Investment Funds. Through this window, public and private sector projects that aim to increase climate resilience can access grants, concessional loans and technical assistance, which reduces project risk for private investors. Since 2013, the PPCR has provided USD 75 million in concessional finance to 12 private sector projects across 7 countries.


Key successes

• PPRC has helped build agricultural practices and climate resilient water supply systems in some of the most climate vulnerable countries

Key challenges

• There was a lack of alignment between the country National Adaptation Program of Action and the PPRC in some countries

Assessment


GCFcriteria

Leverage USD 1.1 B has attracted co-financing of USD 1.7 B.


Assists governments to integrate climate resilience into their agendas.

Climate impactBuilds climate resilience in the countries most vulnerable to climate change.

Other

Scale International program across 18 countries.

SustainabilityFunded by multi-donor trust fund and has a strong track record.

The PPCR provides concessional finance to private sector projects that increase climate resilience,

which helps to attract other investors.

Figure 20: Overview of the Pilot Program for Climate Resilience.24

24 Case Study Report: The Pilot Program for Climate Resilience in Nepal, Climate Investment Funds.

Climate Investment Funds

Private sector projects Investors

Pilot Program for Climate Resilience

Concessional loans or grants

Figure 21: First-loss investments blueprint.


MSME

Investors

MSME

Investors

MSME

Investors

Debt EquityMezzaninne/ Subordinated debt

MSME loans

Note: numbers indicate the order of repayment in case of default.

2 1 3

25 Stimulating Investme Stimulating Investment in Emerging-Market SMEs, Financial Innovations Lab Report nt in Emerging-Market SMEs, Financial Innovations Lab Report.

Finance


Guarantees can provide intermediaries with partial or full insurance against investment risk. This enables financial institutions to enter new markets where the perceived risk is high, where they may otherwise have been unable to generate demand. Guarantees insure part of the amount invested, and recipients pay a fee to receive the guarantee coverage on their investments. The guarantee lowers the interest rate of loans or investments to levels that are more acceptable to MSMEs and motivates the financial institution to make more funds available to MSMEs. Guarantees can cover different investors and investments, as required (Figure 23). The European Investment Fund SME Initiative is an example of a program using guarantees to increase access to finance for MSMEs (Figure 24).

The high frequency and low value associated with MSME lending increases transaction costs. MSME networks or alliances could help to reduce the transaction cost by acting as leverage points to achieve economies of scale. The benefits of these networks for investors are three-fold: they provide ready-made investment opportunities as multiple MSMEs are encompassed under one body; they reduce the need for marketing as success stories spread rapidly amongst networks; they can provide a method of reaching informal MSMEs. Furthermore, there are substantial benefits for MSMEs. Networks or cooperatives enable informal enterprises to access finance and reduce the difficulties associated with adopting new technologies, as the network can provide technical assistance and implementation support26.

Regional MSME Investment Fund for Sub-Saharan Africa

The Regional MSME Investment Fund for Sub-Saharan Africa is a debt fund with a focus on financing microfinance institutions, local commercial banks and other financial institutions in SSA that serve MSMEs. It was founded as a public-private partnership aimed at combining funds from public and private investors, and is structured as a multilayer fund that reflects the risk-return requirements of investors. The fund has disbursed USD 150 million to 42 lending institutions, to over 195,000 micro clients in 17 countries.


Key successes

• 71% of the end clients receiving funding were female owners of SMEs

Key challenges

• Working with local currency increases the risk that investments are affected by volatile currencies

Assessment


GCFcriteria

Leverage Unavailable.


Works through local and international intermediaries with limited government involvement.

Climate impactDoes not specifically target climate change.

Other

Scale Operates across Africa.


The Regional MSME Investment Fund for SSA pools investment from a range of investors, and provides local currency debt financing to partner lending institutions that serve MSMEs.

Figure 22: Overview of the Regional MSME Investment Fund for Sub-Saharan Africa.26

Donors Private investors

Lending Institutions

MSMEs

Fund

Senior notes/ mezzanine

Repayments

Repayments

First loss tranche

Debt fianancing

Loans

26 Regional MSME Investment Fund for Sub-Saharan Africa Annual Report 2013."


European Investment Fund SME Initiative

The European Investment Fund SME Initiative aims to facilitate access to finance for SMEs by reducing the risk to financial intermediaries of lending to MSMES. Financial intermediaries are offered partial risk guarantees on their SME portfolios, and in return offer financing to SMEs with lower interest rates. Spain is the first country to implement this initiative, and it is still in its early phases.


Key successes

• The program began in January 2015, so is yet to record any major successes

Key challenges

• It is a new initiative, so getting buy in from more of the EU member states might be a challenge

Assessment


GCFcriteria

Leverage Expected to achieve a 1:4 leverage ratio.


Country programs are set up through an agreement between EC, EIB and the national government.


Other

Scale Recently launched in Spain but has plans to expand to other EU member states.

SustainabilityFully donor funded, no track record.

The EIF SME Initiative provides partial risk guarantees to cover the SME portfolio of financial intermediaries.

Figure 24: Overview of the European Investment Fund SME Initiative.27

EIF SME Initiative

Financial intermediaries

SMEs

Premiumpayments

Interestrepayments

Partial risk guarantee

Low-interest loans

SME loan portfolio

Figure 23: The structure of guarantees.

DFI exposure to FI MSME portfolios

The guarantor provides a guarantee on the

portfolio of IFI exposures to FIs

FI exposure to MSMEsThe guarantor provides a guarantee to local FIs on the portfolio of exposure

to MSMEs

Equity investmentsThe guarantor provides a guarantee to equity

investors

Guarantor Guarantor

MSME MSME MSME MSME MSME MSME MSME MSME MSME

1st and 2nd loss guarantee



FI loans

MSME loans

MSME loans

Guarantor

International FIs Investors

Funds of funds

Local funds



MSME loans

International Financial Institutions

27 European Investment Fund SME Initiative.


MSMEs with similar business models or activities can be aggregated into a network or cooperative (Figure 25), such as Nexus Carbon for Development – a cooperative for small enterprises that provides climate technologies (Figure 26). All MSMEs pay a membership fee to belong to the network or cooperative, and operate with external partners through a central coordinating body. The coordinating body represents the members and interacts with financiers to secure services or create opportunities for its members. The cooperative relays the services or opportunities to its members and supports them in their application or implementation.

4.4.3 Improving the accessibility of funds for MSMEs

The majority of MSMEs, and informal MSMEs in particular, cannot access credit using traditional approaches. Typically, they do not have sufficient collateral or credit history to secure debt and do not have sufficient capacities to meet application or reporting criteria. Non-traditional lending approaches, such as ”soft” information on the MSME or growth-orientated securitisations (Table 4 - page 31), allow financial institutions to use information other than financial statements or traditional collateral to assess repayment prospects.

Nexus Carbon for Development

Nexus is a cooperative for small NGOs or social enterprises that supports vulnerable communities by providing climate technologies. The Nexus network allows members to scale-up activities by facilitating their access to appropriate financing, such as carbon finance. The cooperative structure allows members to share expertise and services, and access technical assistance and international funding opportunities. Nexus has 21 members operating in over 58 countries.


Key successes

• Nexus is the first global climate cooperative of development organisations

Key challenges

• Currently, the majority of Nexus’ revenue is from grants because core activities have not started generating sufficient revenue to cover costs

Assessment


GCFcriteria



Works with individual NGOs or social enterprises.

Climate impactAims to reduce GHG emissions by 10 Mt by 2020.

Other

Scale International cooperative with members from over ten countries.


The Nexus cooperative provides support to NGOs in its network through the Nexus cooperative and its accompanying fund.

Figure 26: Overview of Nexus Carbon for Development.28,29

Finance Finance

TA and capacity building Carbon

financeopps.

Investors

Nexus Carbon for Development

Members

allianceRevolving

fund

Carbon offsetting plarform

Members

Figure 25: MSME aggregation points blueprint.

28 Annual Report 2012, Nexus Carbon for Development.29 Expert interviews.

MSME MSME MSME MSME

Coordinating body

Financial Institutions

Flow of finance

Flow of information

Key:


Lending approach Description Screening policy Monitoring

Small business credit scoring

FIs use hard information on the MSME and/or its owner obtained from credit bureaus to infer future loan performance.

Based on the output of a loan-performance prediction model.

Observations of timely repayments.

Relationship lending

Institutions use soft information on the MSME, owner and community to infer future loan performance.

Based on the decision, recommendation and observation of the loan officer.

Observation of the enterprise’s performance.

FactoringInstitutions use valuations of the accounts receivable as collateral to evaluate repayment prospects.

Based on the quality of the enterprise’s clients.

Institution owns the accounts receivable.

Asset-based lending

Institutions use valuations of the assets pledged as collateral to evaluate repayment prospects.

Based on the liquidation value of the subset of assets pledged as collateral.

Value of assets assessed regularly, to ensure liquidation value exceeds credit exposure.

Leasing Institutions use valuations of the assets leased as collateral to evaluate repayment prospects.

Based on the value of the asset leased.

Observation of timely repayments.

Table 4: Lending approaches targeted to MSMEs.30 30 A more complete conceptual framework for SME finance, Berger and Udell, 2006.

32BARRIERS AND SOLUTIONS 32

This will enable financial institutions to lend to a greater proportion of MSMEs and increase their MSME market size. For example, when ICICI Bank in India re-launched its SME strategy to incorporate a less traditional assessment program, the size of its SME portfolio tripled (Figure 27) 31.

4.4.4 Providing tailored MSME financing products

The specific needs of MSMEs change depending on their stage in the growth cycle (Figure 28). Products can be tailored to each stage. Early stage MSMEs will require non-collateralised capital from investors with significant risk appetite such as ‘angel’ investors, foundations, or grants from donors or development banks. MSMEs undergoing rapid expansion with new products (or in new markets) will often require debt finance linked to venture capital or specific expansions and projects to help the business grow quickly. This could come from investors such as venture funds, development banks or commercial banks. Most MSMEs will require working capital, particularly in rapidly growing markets, and this could be made widely available from development or commercial banks or funds like the ResponsAbility Energy Access Fund (Figure 29) 32, 33.

Alternatively, finance providers could create products that cater to specific MSME greening needs. These products could be sector specific (e.g., to encourage the manufacturing sector to make water efficiency investments) or product specific (e.g., to allow businesses to purchase solar water heaters with low-cost credit). These products can be sophisticated, but standardised, so that intermediaries can quickly roll out a range of products. To achieve standardisation, intermediaries should segment MSME clients according to their needs and apply a set of standardisation criteria to products for each segment. They would also need to assess the greening needs and opportunities within each sector.

ICICI Bank MSME program, India

The ICICI Bank MSME program provides nontraditional financial services to MSMEs. To evaluate credit risk, the program uses market segmentation and a “360 degree” approach. Credit scorecards (based on industries, linkages or market segments), SME value analyses, relationship manager site visits and personal references are used to evaluate the credit worthiness of each MSME. ICICI has an MSME client base of almost 1 million enterprises.


Key successes

• The relaunch of the SME strategy in 2003 tripled the banks overall SME loan portfolio and its revenues

Key challenges

• MSMEs borrow at low rates, so a high volume of MSME loans are required to make the strategy profitable

Assessment


GCFcriteria



Local approach for local markets, but limited government involvement.


Other

Scale National level, and serves 1 million SMEs.


The ICICI Bank MSME program uses alternative sources to evaluate credit worthiness of MSMEs and provides

nontraditional services.

Figure 27: Overview of the ICICI Bank MSME Program, India.34

ICICI Bank

MSMEs

Investment Accelerator

RepaymentsFinance

360 degree approachInvestment Team

31 Financing Small and Medium Enterprises – the Indian experience, Central Bank of Egypt.

32 Conservation Finance: Moving beyond donor funding toward an investor-driven approach, Credit Suisse, WWF and McKinsey & Company.

33 Greening SMEs by enabling access to finance: Strategies and experiences from the Switch-Asia Programme. Scaling-up study 2013. SWITCH-Asia Network Facility.

34 International Finance Corporation: The SME Banking Knowledge Guide.

33

Figure 28: Typical financing needs across the MSME growth cycle.

ResponsAbility Energy Access Fund

The ResponsAbility Energy Access Fund Energy is a revolving fund that will provide working capital loans and longer term debt to MSMEs producing and distributing modern energy products. The fund aims to demonstrate the manufacturers of low-cost energy products could accelerate their growth if they have access to flexible credit, and the fund has been established after a successful pilot. Additionally, the fund has a tiered capital structure to catalyse participation from private sector investor. It is projected to grow to USD 200 million over the next seven years and improve the livelihoods of over 50 million people.


Key successes

• The pilot fund catalysed the sale of over 800,000 solar lights and 100,000 cook stoves in less than 2 years

Key challenges

• Assessing the risks associated with funds investing in MSMEs is complex

Assessment


GCFcriteria



Will work directly with manufacturers and distributors, so will have no direct government involvement.

Climate impactExpects to offset over 3 Mt CO2 by 2020.

Other

Scale Plans to operate internationally.

SustainabilityDonor funded, but will be self-sustaining because it will provide loans and receive repayments.

The ResponsAbility Energy Access Fund will provide working capital loans in initial stages, and longer-term debt in later stages, to

MSMEs manufacturing and distributing energy products.

Figure 29: Overview of the ResponsAbility Energy Access Fund.35

1st loss tranche

2nd loss tranche

Senior notes

Working capital loans / debt Repayments

Description

• Developing and refining products

• Initial roll out of new product (or into new market)

• Replication of sales at larger scale

• Improving cost and revenue structures to become fully sustainable

Financing need

• R&D investment and product testing Working capital

• Capital investment

• Working capital

• Capital investment

• Working capital

• Capital investment • Working capital

Instruments required

• Grants • Seed capital

• Grants • Seed capital • Early stage

venture capital

• Project finance• Venture capital • Equity

investments

• Debt financing • Equity financing

Investors

• Angel investors

• Foundations/funds

• Angel investors• Foundations/

funds

• Equity funds• Development

banks• Commercial

banks

• Equity funds• Development

banks• Commercial banks

Shell Foundation

Ludin Foundation

Private investors

ResponsAbility Energy Access Fund

MSMEs

35responsAbility Summary, Shell Foundation.

Early-stage development

Testing business model Scaling-up Commercialisation

BARRIERS AND SOLUTIONS


As understanding and experience with each sector increases, finance providers may offer bundled products. This could include coupling loans with lines of credit so MSMEs can offer consumer finance for climate technologies or insurance products that encourage MSMEs to undertake mitigation or adaptation activities by covering the risk of failure of these activities (e.g., Energy Savings Insurance Program, Mexico (Figure 30)).

Energy Savings Insurance Program, Mexico (pilot)

The Energy Savings Insurance Program aims to scale up SME’s investment in energy efficiency (EE) by mitigating the risk that EE investments may not pay themselves off. The scheme will work with local insurers to provide insurance to cover projected energy savings for EE investments. Energy service / equipment providers offering guarantees for the performance of their products would purchase the insurance for their guarantee. If EE savings are not realized, the insurance pays out to the SME and the SME retains a portion of performance fees from the provider. The insurance program will be coupled to complementary products for SMEs. The program is ready to pilot in Mexico.


Key successes

• The program is still in its initial phases, so is yet to record any major successes

Key challenges

• The program is still in its initial phases, so main challenges remain to be seen

Assessment


GCFcriteria

Leverage Anticipated 1:4 leverage ratio for the program in Mexico.


Involves National Development Banks as coordinators.

Climate impactPotential annual emissions reductions of 27 - 234 Mt CO2, if the program expands as planned.

Other

Scale

Pilot in Mexico, but plans to expand to BRICS, and the next 11 countries with the largest EE potential.


The REEP Investment Accelerator aims to connect early stage entrepreneurs and MSMEs with investors.

Figure 30: Overivew of the Energy Savings Insurance Program, Mexico.36

BRICS = Brazil, Russia, India, China and South Africa36 Energy Savings Insurance, The Global Innovation Lab for Climate Finance.

National Bank / Local FI

Energy

savings

insurance

Loan

Support Support

Repaym.Premium

Guarantee

Investment Savings

Fee

Local insurer

EE service/ equipment provider

SME

EE intervention

Global Innovation Lab for Climate Finance

INVESTMENT PRIORITISATION 35

5 Investment Prioritisation

Support could be given to MSMEs toallowthemtoconductarangeof greening activities, or to MSMEs producing climate technologies.

36

1: UNDP Guidebook for the design and establishment of National Climate Change Funds

5.1 Introduction

This section uses existing data sources to demonstrate how the GCF’s MSME Program could prioritise support to specific sectors. It is intended to suggest possibilities about prioritising investments between sectors or technologies and types of support (rather than as a specific recommendation to invest in one sector or technology over another). To come to a firm decision over which sectors or technologies to prioritise, one should use in-depth country, sector, and technology analysis to confirm or reject initial prioritisation hypotheses. The scope of this analysis is limited to using existing data to form a high-level view of prioritisation, and the project team did not undertake in-country analysis or validation.

5.2 Categorizing climate finance

This analysis focuses on two types of climate finance for MSMEs (explained further in Figure 31):

• Support to MSMEs in all sectors to help ”green” existing operations. This relates to financially supporting businesses to reduce the carbon footprint, or increase the adaptive capacity of, their operations, regardless of sector, most commonly via improved resource efficiency, reduced emissions or other behavioural changes.

• Support to MSMEs working in climate technology sectors. This relates to financially supporting MSMEs to stimulate business growth or entry into new markets or products.

5 | Investment Prioritisation

Climate finance to MSMEs

Greening the operations of MSMEs in all sectors

MSMEs providing climate technologies

• Relates to finance that is used to help ‘normal’ businesses green their operations most commonly via use of resource efficiency methods or behavioural changes

• Support could be prioritised for greening MSMEs in sectors that have:

• A large number of MSMEs

• High potential for climate impact (large volume of GHG emissions or stated high vulnerability to climate change)

• A significant credit gap

• Relates to support for MSMEs that operate with climate technology sectors i.e., MSMEs providing operations and maintenance in the wastewater technology sector

• Support could be prioritised for MSMEs producing or distributing climate technologies that have:

• A large number of MSMEs

• High potential for climate impact (large volume of GHG emissions reductions or large reduction in vulnerability to climate change)

• A significant credit gap

Categorization Description

We assess two types of climate finance

Figure 31: The categories of climate finance support for MSMEs.

INVESTMENT PRIORITISATION

37

5.3 Sector prioritisation for greening finance

Support could be given to MSMEs to allow them to conduct a range of greening activities. Such activities could include reducing energy use by supporting a switch to energy-efficient approaches for lighting, buildings, and refrigeration; reducing emissions by supporting a switch to renewable energy sources (either external or in-house); or improving water conservation by supporting

behavioural change towards pollution and water use.

For the purpose of prioritising support for greening finance, we categorize MSMEs into 11 sectors (see annex for sector definitions). We then prioritise each sector according to relevance to MSMEs, potential financial need and potential for climate impact. The number of formal and informal MSMEs in each sector is used to estimate relevance to MSMEs. Potential financial need is estimated by

assuming all MSMEs will need a loan for greening activities, and there will be a 1% penetration rate per year. Potential climate impact is assessed using annual CO2 emissions data by sector.

The trade sector has the most MSMEs (140M), followed by agriculture (90M) and manufacturing (50M) (Figure 32). Within each sector, around 80% of MSMEs are informal. ”Unserved” MSMEs are those that need credit but do not have any access, and underserved MSMEs have

a loan or credit line, but find financing a constraint to growth. The greatest number of underserved and unserved MSMEs are also in the trade sector.

If one assumes that MSMEs in all sectors will require financing for greening, and one also assumes that an average-size loan is required for 1% of all MSMEs in developing countries per year, the total annual finance requirement for greening would be USD 45 billion (Figure 33).

0

5

10

15

45

Total

Tourism

Comm

unity, social and

personal services Agriculture, hunting,

forestry and fishing

Financial, professional

and business services

Recycling and waste

managem

ent

Electricity, gas and

water supply

Manufacturing

Total

TransportationInfrastructureM

ining and quarrying

Other

Total greening finance need for developing countries across sectors

USD Billions

0

10

20

30

40

50

60

70

80

90

100

110

120

130

140

Community, social and

personal services

Manufacturing Agriculture, hunting, forestry

and fishing

Trade

Millions

# formal MSMEs # unserved/underserved formal MSMEs

# unserved/underserved informal MSMEs# informal MSMEs

Number of MSMEs in largest four sectors

Figure 32: Total number of formal, informal and unserved or underserved MSMEs in developing countries by sector (4 sectors with highest number of MSMEs only).

Figure 33: Total greening finance need for developing countries across sectors.


38

The overall sector prioritisation is shown in Figure 34 and is ordered primarily based on number of MSMEs per sector. A secondary level of prioritisation could reflect the relative mitigation potential of each sector. In that case electricity, gas and water, manufacturing, and agriculture produce the greatest volume of greenhouse gas (GHG) emissions 37. However, emissions data were not available for all sectors and would therefore be misleading to prioritise using this parameter.

Figure 34: Sector prioritisation for greening finance in developing countries.

37 The Shift Project Data Portal, Energy and Climate Data.

Sector

Climate impact Relevance to MSMEs Finance

GHG emissions 2010

(MtCo2eq)

# MSMEs (M)

# Informal MSMEs

(M)

# MSMEs unserved or underserved

(M)

Greening finance need

(2015, USD B)

Traden/a 139 54 71 15.5

Agriculture, hunting, forestry and fishing 3,600 88 35 45 5.4

Manufacturing3,700 49 19 25 6.9

Community, social and personal services n/a 44 17 23 5.6

Transport, storage and communication 1,500 19 7 10 2.7

Financial, professional and business services n/a 14 5 7 2.9

Tourismn/a 12 5 6 3.1

Infrastructuren/a 7 2 3 2

Mining and quarryingn/a 2 1 1 0.2

Electricity, gas and water supply 6,000 1 0.3 0.4 0.1

Othern/a 1 0.3 0.5 0.1

Recycling and waste management n/a 0.1 0.03 0.01 0.1

Total n/a 375 145 192 45


INVESTMENT PRIORITISATION 39

5.4 Sector prioritisation for climate technology MSMEs

MSMEs play an important role across the value chain of 15 climate technologies (see Annex 8.1 for definitions)38. Support given to climate technology MSMEs can have many objectives. For example, one objective could be to support MSMEs with new technologies (or those breaking into new markets) through early growth phases by using risk capital. Alternatively, support to climate technology MSMEs could aim to support businesses in rapid growth phases with working capital or project finance.

We prioritise MSME climate technology sectors according to three factors: size of the MSME opportunity, financial need and emissions abatement potential. We estimate the number of MSMEs working in that industry by combining the projected revenue for each sector by an estimate of the number of MSMEs supported per dollar. Financial need is calculated as the proportion

of these MSMEs that are underserved or unserved. Abatement potential is the potential volume of greenhouse gases avoided by each technology.

InfoDev estimates that USD 160 billion each year will flow to MSMEs working in climate technology sectors in development countries over the next decade39. Based on this figure, we estimate that approximately 720,000 MSMEs would be active in climate technology sectors. Specifically, and based on this InfoDev data, wastewater, small hydro and water technologies have the largest potential MSME opportunities (Figure 35)39.

38 Building Competitive Green Industries: The Climate and Clean Technology Opportunity for Developing Countries, infoDev Climate Technology Program.

39 The projected revenue in each sector is taken directly from the following publication - Building Competitive Green Industries: The Climate and Clean Technology Opportunity for Developing Countries, infoDev Climate Technology Program.

40 Total greening finance need per sector was calculated by multiplying the number of MSMEs in the sector by average loan size, and multiplying by a 1% penetration rate. This assumes all MSMEs require support for greening.

Figure 35: Number of MSMEs that could be involved in each technology in developing countries.

0

20

40

60

80

100

120

140

160

180

200

220

240

Electric vehicles

Natural g

as vehicles

Bus rap

id transit

Bio

fuels

Solar therm

al

Solar C

SP

Waste

Electric bikes

Geo

thermal

Bio

energy

Solar P

V

Onsho

re wind

Water

Small hyd

ro

Waste w

ater

Number of MSMEs in developing countries, by climate technology

‘000s

0

175

350

525

700

875

1050

1225

1400

Electric vehicles

Total

Natural g

as vehicles

Bus rap

id transit

Bio

fuels

Solar therm

al

Solar C

SP

Waste

Electric bikes

Geo

thermal

Bio

energy

Solar P

V

Onsho

re wind

Water

Small hyd

ro

Waste w

ater

Credit gap for MSMEs providing climate technologies40

USD Billions

Figure 36: Credit gap for MSMEs providing climate technologies.

40

Taking these assumptions on the number of MSMEs in climate technology sectors, we apply country-wide rates of financial need (the portion of MSMEs that are unserved or underserved). Using this approach, the credit gap for MSMEs providing climate technologies is approximately USD 4-5 billion across developing countries41.

The overall prioritisation of climate technologies is shown in Table 5 and is ordered based on the number of MSMEs supported by each sector. It is important to note that priority-setting based on the number of MSMEs supported is clearly not the only approach to making investment decisions. If one were to prioritise those technologies that have the largest abatement potential, then onshore wind, geothermal and solar PV would rank first, second and third (Figure 37)42.

41 The projected revenue in each sector is taken directly from the following publication - Building Competitive Green Industries: The Climate and Clean Technology Opportunity for Developing Countries, infoDev Climate Technology Program.

42 Pathways to a low-carbon economy: Version 2 of the global greenhouse gas abatement cost curve, McKinsey & Company.

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

2.2

2.4

2.6

2.8

Small hyd

ro

Electric vehicles

Bio

energy

Bio

fuels

Waste

Solar C

SP

Solar P

V

Geo

thermal

Onsho

re wind

Global GHG abatement potential for each technology

Figure 37: Global GHG abatement potential for each technology.

Type of technology

Projected market share38

Abatement potential40(GtCO2eq)

Total enterprise(‘000s)

Enterprises that need credit (‘000s)

Credit gap (2015, USD M)

Wastewater 33% - 238 135 1,450

Small hydro 13% 0.4 96 55 590

Water 9% - 67 38 410

Onshore wind 9% 2.7 67 38 410

Solar PV 9% 1.3 63 36 380

Bioenergy 6% 0.4 45 25 270

Geothermal 6% 1.3 40 23 250

Electric bikes 4% - 27 15 160

Waste 3% 0.8 18 10 110

Solar CSP 3% 1.0 18 10 110

Solar thermal 3% - 18 10 110

Biofuels 1% 0.5 9 5 50

Bus rapid transit 1% - 4 3 30

Natural gas vehicles

1% - 4 3 30

Electric vehicles 0% 0.4 2 1 10

Total 100% 8.8 717 406 4,370

Table 5: Prioritisation of climate tehcnologies.


DELIVERY CHANNELS 41

6 Delivery Channels

The GCF MSME Program should deliver MSMEfinancethrougharangeoffinancialintermediaries.

6.1 Overview

Due to the small ticket size and high volume of investees, the transaction costs associated with working directly with MSMEs are likely to be prohibitive to working directly with MSMEs. It is likely that the most cost-effective approach for the GCF MSME Program to deliver finance to MSMEs is through financial intermediaries. Many intermediaries around the world already work with MSMEs, and each has relative advantages and disadvantages.

This section highlights five possible options for delivering finance to MSMEs through intermediaries (Figure 38). Much of the discourse around access to the GCF has focused on direct versus international approaches. The options outlined here include both approaches. For

instance, working through local financial institutions (FIs) would be considered as part of the direct approach, and working through multilateral development banks would be considered as part of the international approach.

6 | Delivery Channels


Option A:

MDBs and local FIs

Option B:

NDB's

Option C:

to local FIs

Option D:

equity funds

Option E:

specialist foundations

MSMEs MSMEs MSMEs MSMEs MSMEs

Local FI Local FI Local FILocal FI Local FI

GCF GCF

Multilateral DB National DB

Equity funds Foundations

PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

GCF

Nat

iona

lR

egio

nal

Glo

bal

PrivateSector

Investment

GCF GCF

Figure 38: Options for delivering finance to MSMEs.


This section broadly describes each delivery channel across the following four parameters (Table 6). First, the type of strategic objectives each option may lend itself to. Second, how well the delivery channel aligns with the GCF’s investment criteria (acknowledging that there could be outliers within each group)43. Third, the range of instruments available through each channel. And finally, the internal GCF skill set required to successfully work through each channel.

6.2 Delivery channel options and case studies

Each delivery channel option provides relative advantages and disadvantages, and it is likely that the GCF’s work to support MSMEs would be most effective by using multiple channels. For example, working through MDBs would potentially enable the MSME Program to scale-up quickly and to provide standardised products to micro-enterprises, but might avoid taking high risks on potentially transformational MSME technologies. On the other hand, working directly with local FIs could facilitate highly specialised financial products in

response to specific issues, but might require greater oversight from the GCF. Going directly through specialist foundations or funds offers the ability to support early-stage roll-out of new technologies or innovative models, taking on significant risk, but provides less ability to scale and requires greater in-house specialist skills.

Several examples of organisations within each delivery channel category are shown in Table 7. This serves purely to give examples of the types of organisations that are considered within each delivery channel options (rather than recommendations for one program versus another).

43 Key investment criteria include maximising long-term climate impact, leveraging private sector capital, providing finance that is complementary to existing efforts, and supporting high-risk, high-potential opportunities.

44 Climate Funds could also play the role of MDBs.

Delivery option AssessmentRelevant instruments

Option A: GCF provides finance through MDBs and local FIs 44

• Likely to be good for rolling out more general climate finance products across multiple sectors, countries, regions

• Likely to score higher on climate impact and leverage

• Likely to score lower on risk and efficiency

• Requires fewer specialist skills due to interaction with limited number of partners, all of whom already have well-established procedures and track records

• Grants / guarantees

• Debt• Technical

assistance

Option B: GCF provides finance through NDBs

• Likely to be good for rolling out climate finance products on a single or multi-sector basis within a given country

• Likely to score higher on efficiency

• Likely to score lower on risk and long-term impact

• Requires some specialist skills as NDBs will probably partner with a small number of local FIs or other investors

• GCF may provide technical assistance directly to NDBs and may perform hands-on rigorous M&E



assistance

Option C: GCF provides finance directly to local FIs

• Likely to be good for rolling out highly specific climate finance products on a single or multi-sector basis within a given country

• Likely to score higher on efficiency

• Likely to score lower on risk and long-term impact Requires specialist skills due to working with a large number of local FIs that might not regularly interact with development financiers

• Will require”hand-holding” in some circumstances, and ongoing M&E



assistance

Option D: GCF provides finance through equity funds

• Likely to be good for supporting the growth of MSMEs in one or more sectors, countries or regions

• Likely to score higher on risk and long-term impact

• Likely to score lower on climate impact (due to limited scale)

• Requires specialist equity investment skills due to higher risk level of investments, and to ensure partners have solid project selection criteria and sufficient ongoing M&E processes



assistance

Option E: GCF provides finance through specialised foundations

• Likely to be good for nurturing early-stage MSMEs to scale-up cutting edge technologies or to provide

• Likely to score lower on climate impact and leverageRequires specialist skills to ensure partners have solid project selection criteria and sufficient ongoing M&E processes


• Technical assistance

Table 6: Assessment of potential MSME Program delivery options.


Organisation Current programs Size (USD M)

MSMEs served

Climate Focus

EQ PRI

Option A GCF provides finance through MDBs and local FIs

International Finance Corporation (IFC)

China Utility-based Energy Efficiency Finance (CHUEE) Risk Sharing Facility45 : Provides risk guarantees and technical assistance to local banks to cover their green finance loans to SMEs.

22.3 (levarged

557.5)

>1,000 X X X

Global SME Facility46: Mobilizes concessional and commercial funding from donors and IFIs for financial intermediaries and provides them structural and technical assistance to expand finance to SMEs.

50 600,000

Inter-American Development Bank (IDB)

Improving the Competitiveness of SMEs through appropriate financing47: Provides a grant to support the development of a specialised financial intermediary in Guyana and Suriname and develops their MSME lending markets.

3 50 X

Eco-micro program 48,49: Provides technical expertise and grant money to microfinance institutions to promote the development of green financial instruments in Latin America.

2 Pilot phase – first results

available 09/2015

X

African Development Bank (ADB)

African Guarantee Fund50: Provides partial credit guarantees and technical assistance to financial institutions in support of their SME financing activities to stimulate financing to SMEs in Africa.

50 Not available

X X

Organisation Current programs Size (USD M)

MSMEs served

Climate Focus

EQ PRI

Global Environment Facility (GEF)

Clean-Tech Program for SMEs51: Uses a competition to identify highly promising SMEs working in climate change, provides them prize money and technical assistance, and connects them to potential investors, customers and partners.

~852 Not available

X

Option B: GCF provides finance through NDBs

Development Bank of the Philippines (DBP)

Retail lending for Micro and Small Enterprises53: Provides loans to formal enterprises with a capitalization below USD 0.3 million.

Not available

Not available

Sustainable Entrepreneurship Enhancement and Development Program53: Simplifies and speeds up the credit process for MSMEs and provides them credit facilities.

Not available

Not available

Nacional Financera Mexico (Nafinsa)

Nafin Guarantees Program54: Provides guarantees to the SME portfolio of intermediaries that finance small enterprises supplying goods and services to public sector agencies and first-tier companies.

8,308 330,000

Energy Efficiency Financing Program for SMEs54: Provides soft loans and technical assistance for SMEs in the service sector interested in improving energy efficiency.

26 Not available

X

45 China Utility-based Energy Efficiency Program (CHUEE) Brochure, IFC; expert interview.46 Strengthening Middle-Income Country Engagement, IFC.47 www.iadb.org (accessed May 2015).48 www.ecomicro.org (accessed May 2015). 49 Expert interviews.

50 www.africanguaranteefund.com (accessed May 2015).51 Fostering Clean Technology Innovation in Emerging and Developing Countries, GEF, UNIDO.52 Estimate based on the plan that each country will receive USD 1-2M in funding from GEF. 53 www.devpnkphl.com (accessed May 2015).54 www.nafin.com (accessed May 2015).

Table 7: Examples of current programs for each delivery option.


55 www.brd.rw (accessed May 2015). 56 A Multilateral Donor Triumphs over Disbursement

Pressure: The story of Microfinance at Banco do Nordeste in Brazil, CGAP.

57 www.nedbank.co.za (accessed May 2015).58 www.bamboofinance.com (accessed May 2015).59 www.seaf.com (accessed May 2015).60 Number of investments made between inception –

2011 (date of most recent, available impact report) 61 www.ecoenterprisesfund.com (accessed May 2015).

62 EcoEnterpises first fund invested in 23 sustainable businesses, and the second fund currently has investments in 7 funds.

63 www.mustardgh.com (accessed June 2015).64 www.lundinfoundation.org (accessed May 2015).65 www.smef.org.bd (accessed May 2015; figures taken

from “Status of Credit Wholesailing Program (CWS) on 31 March 2015).

66www.shellfoundation.org (accessed May 2015).

OrganisationCurrent programs

Size (USD M)

MSMEs served

Climate Focus EQ PRI

Development Bank of Rwanda (DBR)

SME Guarantee Fund : 55 Provides a 10-year guarantee to the SME portfolio of participating financial intermediaries.

Not available

Not available

Refinancing Microfinance Institutions55: Provides refinancing and capacity building for micro finance institutions.

Not available

Not available

Option C: GCF provides finance directly to local FIs

Banco do Nordeste (Brazil)

CrediAmigo Program56: Provides microcredit to entrepreneurs in the formal and informal sectors of Brazil’s northeastern region. Individual clients are organized into groups with an average size of five individuals, referred to as solidarity groups, who provide collateral or a loan guarantee through a group repayment pledge.

2,640 1,700,000

ICICI Bank (India)

MSME “Beyond lending approach” : Provides non-traditional financial services such as cash management and advisory services to MSMEs in addition to loans and equity.

- 1,000,000

NedBank (South Africa)

Nedbank Small Business Incubator Fund57: Provides funding, banking services, networking opportunities and business training to SMEs, prioritising those that contribute to environmental and social sustainability.

Not available

Not available

X X

OrganisationCurrent programs

Size (USD M)

MSMEs served

Climate Focus

EQ PRI

Option D: GCF provides finance through equity funds

Bamboo Finance

Commercial private equity firm that invests in business models that benefit poor communities in developing countries. Launched a solar energy fund for developing countries in 201458.

250 46 X

Small Enterprise Assistance Funds

International investment firm that provides growth capital and financial assistance to early-stage entrepreneurs in underserved developing countries59.

>250 33860

EcoEnterprises Fund

Impact investment fund that provides growth capital to small companies addressing environmental and social challenges61.

50 3062 X

Mustard Capital Partners

Private equity fund that invests equity and debt into SMEs in West Africa for financial and social returns63.

32 17 X

Option E: GCF provides finance through specialised foundations

Lundin Foundation

Philanthropic organisation that provides risk capital to high-potential SMEs and grants to early stage SMEs in developing countries64.

13 46

Small and Medium Enterprise Foundation, Bangladesh

Non-profit Organisation established by the government of Bangladesh that implements government policy strategies, facilitates financial support from financial intuitions and provides technical and capacity support for SMEs in Bangladesh65.

0.4 752

Shell Foundation

Independent charity focused on solving global development challenges. Provision of finance for SMEs is one of the focus areas of the foundation and it has supported initiatives such as the Serving SMEs in MENA program and the Grofin SME fund66.

Not available

Not available

Table 7: Examples of current programs for each delivery option (cont.)

46DELIVERY CHANNELS

The most appropriate delivery channels may change over time as the GCF and its partners evolve and gain experience tackling different problems (Figure 39). As an example, whilst the GCF is in its early stages, it may prioritise reaching scale for immediate results. If so, it may wish to work through MDBs on more traditional MSME lending programs. It may also focus on learning and capacity building, with a view to achieving long-term impact, so could simultaneously pilot working with local financial intermediaries. In the medium-long-term, the GCF could grow its in-house skill set, and take on more high-risk investments that would enable it to work with smaller scale, more innovative MSME intermediaries (equity funds or specialist foundations).

It should be noted that one of the main challenges of working through intermediaries is that the GCF can only partner with accredited entities. As such, a list of preferred intermediaries will not necessarily lead to additional delivery options for the GCF. This is particularly pertinent when considering working through local FIs. It is important to note that

Inve

stm

ent v

olum

e

Organizational capacity/skills development

Present – 1 yearBegin working with MDBs and aim to

ramp up support through local FIs

1– 3 years ...expand to include NBDs...

3 years +expand into risker investmnets with

equity funds

66 www.shellfoundation.org (accessed May 2015).

Figure 39: Use of delivery channels over time.

• Target investments that quickly achieve scale and impact

• Rampupworkingthroughsmallerintermediaries (local FIs) to:

• BuildGFClearningonwhatworks

• Maximiseinvestmentefficiency

• Scaleupflowoffundsthroughexistingandnewchannels

• Focus on maximising private sector leverage

• Continue to scale-up in absolute size

• Takeonmoreriskyinvestmentwith high returns

• Target early stage technologies that could provide long term transformational climate outcomes

several immature or domestically focused institutions may not implement environmental and social safeguards, one of the requirements of GCF accreditation. This represents a significant hurdle for many local FIs.

Option A:

MDBs and local FIs

Option B:

NDB's

Option C:

to local FIs

Option D:

equity funds

Option E:




GCF GCF



PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

GCF

PrivateSector

Investment

GCF GCF

Option A:

MDBs and local FIs

Option B:

NDB's

Option C:

to local FIs

Option D:

equity funds

Option E:




GCF GCF



PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

GCF

PrivateSector

Investment

GCF GCF

Option A:

MDBs and local FIs

Option B:

NDB's

Option C:

to local FIs

Option D:

equity funds

Option E:




GCF GCF



PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

PrivateSector

Investment

GCF

PrivateSector

Investment

GCF GCF

IMPLICATIONS 47

7 Implications

The GCF should support activities that improve enabling environments, increasingknowledgeandawareness,andprovidetailoredfinancialproducts.

The GCF’s MSME Program is currently in the design phase, and it is likely that a pilot version of the program will be discussed and potentially approved by the GCF Board before the end of 2015. The implications presented in this sector, formed as a result of the many interviews and internal analyses completed during this study, are written predominantly with the design of the Green Climate Fund’s MSME Program in mind. The implications aim to guide the discussions around the MSME strategy while proposing specific objectives for the pilot program.

In order to successfully catalyse climate action among MSMEs, the GCF can support interventions across three key areas:

• Improvements to the enabling environment. Many options exist to support policies that can encourage and enable the flow of climate finance to MSMEs. For example, at the national level, the GCF could support the development of clear and stable climate change strategies, strengthened financial infrastructure, and pro-MSME and pro-green investment policies. It could also support the development of green incentives for MSMEs, as well as national standards for climate technologies. At the international level, stakeholders could support free trade in green technologies and the reduction of counterproductive fossil-fuel subsidies67.

• Increasing knowledge and awareness. The GCF could support MSME climate finance provision by focusing on improving knowledge and awareness of the opportunities. For example, it could support matchmaking platforms to link investors with investees. It could also support technical assistance programs for investors, intermediaries, or MSMEs to improve understanding of the opportunities and how to access them.

7 | Implications

IMPLICATIONS 48

67 It should be noted that the GCF may potentially undertake policy interventions through its readiness window, in which case the options here could be incorporated into that support.

49IMPLICATIONS 49

• Providing tailored financial products. The opportunities for support in this area are multifaceted. The MSME Program could encourage intermediaries to provide finance to MSMEs by earmarking funding and by using simplified applications and reporting requirements. It could finance risk-sharing instruments such as concessional finance, grants and first-loss investments to reduce the cost and risk of MSME investments. It could also invest through MSME aggregation points to maximise efficiency of working with small Organisations, and it could test alternative credit worthiness methodologies to lend to informal businesses. Finally, the MSME Program could provide financial products based on the growth stage of MSMEs, such as focusing on providing seed funding to new MSMEs or working capital to rapidly expanding businesses.

The GCF’s MSME Strategy will clearly require more than the ability to support the range of interventions mentioned above. From the analysis conducted in this study, there are several others considerations:

The MSME Program should find ways to maximise efficiency of MSME investing. There are more than 350 million MSMEs in developing countries, predominantly in trade, agriculture and manufacturing. The transaction cost of interacting with large numbers of entities with small ticket sizes means the GCF will need to find ways to maximise efficiency of lending and investing. Practically speaking, this means prioritising investments through those intermediaries that have demonstrable efficiency advantages, or alternatively, targeting investment aggregators as an entry point to the MSME market.

The MSME Program should look for ways to invest in the informal sector. The majority of MSMEs in developing countries, almost 300 million, are in the informal sector. Providers will find it difficult to increase access to climate finance for informal MSMEs using traditional

financial products, particularly those requiring property as collateral or extensive credit histories. The GCF could look to find ways to support solutions for informal businesses, such as the use of alternative credit worthiness assessments or alternative collateral sources. Crucially, the informal sector requires a supportive enabling environment, such as suitable policies around property or expanded credit information systems.

Country- and sector-level analysis should determine specific programs within the MSME Program. This study provides a high-level view of sector-level priorities for greening finance and of prioritisation of climate technologies. At a global level, the analysis suggests that there would be significant need for greening finance in the trade, agriculture and manufacturing sectors. It is also likely that the wastewater, small hydro and water technology sectors will see large MSME participation. However, priority setting and decision making for individual countries would require a more in-depth look at the issues within each sector at country-level in order to uncover the specific investment opportunities.

50

Alternative credit assessment processes

Activities

Key questions

Objectives

Maximize learning to improve Test innovative or high-risk approaches to identify successful interventions

Pro-green lending and borrowing policies

Create national standards for green goods and services

Matchmaking platformsMSME credit aggregation points

How can the MSME Program best reach informal MSMEs?

How can the MSME Program best reach large numbers of MSMEs?

Technical assistance

Figure 40: MSME Program Theory of Change.

IMPLICATIONS

IMPLICATIONS 51

For example, country-level analyses might find a significant demand for off-grid, mini-solar plants among manufacturing MSMEs in several countries. Subsequently, the GCF could support improvements to the enabling environment, increased knowledge and awareness of these opportunities and the provision of tailored financial products. It could also decide upon the most appropriate delivery channel for such support (i.e., type of Organisation and geographical remit).

The pilot phase of the GCF’s MSME Program provides an opportunity to test approaches to tackle the challenges mentioned above while maximising learning before scale-up. The overarching objective of the pilot should be to test and refine the MSME Program’s approach in preparation for full-scale implementation. Further, the pilot program should reduce the uncertainty around achieving the main challenges likely to be faced by the full-scale program. There are two components to this. First, the pilot program should test new approaches to solving issues while in a relatively safe, small-scale, environment. Second, it should maximise learning to ensure that efficiency gains can

be found early on during scale-up. Practically, this means that the MSME Pilot Program should identify investments that can maximise MSME reach while reaching informal MSMEs. These investments should be made within the bounds of a strong M&E framework to ensure all key lessons can be extracted and used in future investments. The pilot program would also be a good opportunity to undertake more detailed sector analyses at country level to uncover specific investment opportunities. The efforts of the pilot program could then focus around a coordinated approach to support a stronger enabling environment, increased knowledge and awareness, and the provision of tailor financing products.

ANNEX 52

8 Annex

Name Organisation

David Bresch Swiss Reinsurance Company Ltd.

Amal Lee Amin E3G (Civil Society)

Aurelio Souza Winrock international (civil society)

Rodrigo Violic Banco BICE

Duncan Abel Nedbank

Jens-Christian Stougaard PensionDanmark

Avril Benchimol Dominguez IDB

Matt McClymont IDB

Arantza Loza IDB

Alfredo Idiarte IDB

Duncan Gromko IDB

Katalin Solymosi IDB

Michelle Kaminski CIDA

Paul-Vande Logt Dutch MoFa

Jakob Haugaard DANIDA

Tomonori Sudo JICA

Henning Wuester IRENA

Kevin Gardner DFID

Santiago Lorenzo WWF

Karen Orenstein Friends of the Earth

Name Organisation

Inez Couzinet DAI Consulting

Tammy Newmark EcoEnterprises

Lizzie Teague Root Capital

Christine Eibs-Singer CES Global

Uwe Weber SWITCH-Asia Network Facility

Christian Grossmann World Bank

Corazon Conde ADFIAP Consulting

Dan Potash Private Financing Advisory Network

Barbara Buchner CPI

Nick Godfrey New Climate Economy

Shelagh Whitley ODI

Robert Youngman OECD

James Cameron Climate Change Capital

Samuel Bryan Nexus Carbon for Development

Madhu Yalamarthi Ethiopian Agricultural Transformation Agency

Antongiulio Marin European Commission, DG Climate Action

ANNEX 53

8.1 Expert interviews Table 8: Interviewees.

54ANNEX 54

Sector Description

Agriculture, forestry, hunting and fishing

Extraction of vegetable and animal resources.

Community, social and personal services

Services provided by businesses and public administration to individuals or the community.

Electricity, gas and water supply Provision of electric power, natural gas, steam supply and water supply.

Financial, professional and business services

Provision of financial intermediation; activities focused on business sector.

Infrastructure General construction, renovations, repairs, of buildings and civil engineering.

Manufacturing Transformation of materials, substances or components into new products.

Mining and quarrying Extraction of naturally occurring minerals.

Recycling and waste management

Processing of waste and scrap into secondary raw material.

Tourism Provision of services to individuals traveling for leisure.

Trade Wholesale and retail sale of any type of goods; services related to the sale of merchandise.

Transport storage and communications

Provision of passenger or freight transport; postal activities and telecommunication.

8.2 Definitions of sectors

Sector Description

Wastewater Treatment and redistribution of wastewater and sewage.

Small hydro Production and distribution of hydroelectricity generating power up to 10 MW.

Water Water treatment and purification

Onshore wind Production and distribution of wind technologies situated on land.

Solar PV Production and distribution of solar photovoltaic technologies.

Bioenergy Production and distribution of renewable energy made available from materials derived from biological sources.

Geothermal Production and distribution of energy harnessed from earth’s core.

Electric bikes Production and distribution of motorcycles powered by electricity.

Waste Municipal solid waste management.

Solar CSP Production and distribution of renewable energy produced from concentrated solar power systems.

Solar thermal Production and distribution of renewable energy produced by harnessing solar energy to generate thermal energy.

Biofuels Production and distribution of renewable energy produced from living organisms or their waste produce.

Bus rapid transit Development, operation and maintenance of bus transit networks.

Natural gas vehicles Production, distribution and maintenance of vehicles powered by compressed natural gas or liquefied natural gas.

Electric vehicles Production, distribution and maintenance of vehicles powered by electricity.

Table 9: Definition of sectors.67

67 Sectors are adapted from UNSTAT International Standard Industrial Classification of All Economic Activities, Rev. 4.

Table 10: Definition of climate technologies.38

ANNEX 55

Prioritisation of MSMEs in High impact, high relevance sectors

Potential climate impact Relevance to MSMEs

GHG emissions by sector

Shift GHG emissions data

IFC MSME credit data

IFC MSME sector data

Country micro and

SM split

% Breakdown of MSMEs by sector Country Access to credit split

Prioritisation of MSMEs involved with high impact, high relevance technologies

Potential climate impact Finance gap Relevance to MSMEs

Abatement potential by technology

McKinsey abatement potential data

Breakdown of MSMEs by size


Infodev MSME clean tech

market size

Clean tech market share

Total number of MSMEs per climate technology

Number of enterprises that need credit


Av. sector split applied to all dvp.

countries

1% market penetration rate for greening of MSMEs

Annual MSME clean tech market

and share

Prioritization

Outputs

Data and analysis

Prioritization

Outputs

Data

Analysis

Data

Analysis

Assumption

8.3 Overview of investment prioritisation modelFigure 41: Model for prioritising sectors.

Figure 42: Model for prioritising climate technologies.

This document is an output from a project funded by the UK Department for International Development (“DFID”) for the benefit of developing countries.However, the views expressed and information contained in it are not necessarily those of or endorsed by DFID, which can accept no responsibility for suchviews or information or for any reliance placed on them.This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should not act uponthe information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law, the entities managing the delivery of the Climate and Development Knowledge Network [1] , the UK Department for International Development , their advisors and the authors and distributors of this publication do not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.

© 2013. All rights reserved.

1 “The Climate and Development Knowledge Network is a project funded by the UK Department for International Development (DFID). It is managed by an alliance of organisations led by PricewaterhouseCoopers LLP (PwC), and including Fundación Futuro Latinoamericano, INTRAC, LEAD International, the Overseas Development Institute, and SouthSouthNorth”.

IncreasingMSMEaccesstoclimatefinance

For more information contact:

James Eustacet: +41 22 809 99 00E: [email protected]

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